Stablecoin Regulation Misses the Point: Private Banknotes Are Already Legal

The issuance of redeemable notes by private banks, in paper or electronic form, appears to already be legal in the United States.

Stablecoin regulation is a hot-button issue in the cryptocurrency space. Recent reports from U.S. regulators and the Biden Administration have warned that stablecoins could threaten financial stability, though many are skeptical of that claim. Past proposals have sought to govern the transparency, issuance and licensing of stablecoins, but no legislation has yet been passed.

This debate, however, may be missing an important point: The issuance of redeemable notes by private banks, whether in paper or electronic form, appears to already be legal in the United States.

Thomas Hogan is a senior fellow at the American Institute for Economic Research. He was formerly the chief economist for the U.S. Senate Committee on Banking, Housing, & Urban Affairs. This article is part of CoinDesk’s “Policy Week.”

Private banknotes were used extensively as a medium of exchange for the majority of U.S. history. Before the establishment of the Federal Reserve in 1913, banks issued paper notes that were redeemable for an equivalent amount of some asset, usually gold. Even after the gold standard ended in 1933, notes issued by national banks continued to circulate, though their numbers dwindled to around $20 million in circulation by 1970.

Today, the issuance of private banknotes is common practice in several countries. In Hong Kong, Scotland and Northern Ireland, for example, private banks issue paper notes that are redeemable for their respective local currencies. Altogether, private bank-issued currency is legal in dozens of countries around the world.

See also: What Is a Stablecoin?

Electronic stablecoins are the modern analog to paper banknotes. Stablecoins are crypto tokens whose value is pegged to some other asset, such as the U.S. dollar. The total market value of the top four U.S. dollar-linked stablecoins is currently around $135 billion, which although quite large, is modest compared to the U.S. monetary base of about $5.4 trillion.

Most stablecoins are redeemable on demand, just like deposits in a checking or savings account. Tether (USDT), the largest stablecoin by market capitalization, promises redeemability in U.S. dollars. Some stablecoins, such as the dai (DAI) token, require more than 100% collateralization to help ensure token holders’ funds are secure even if the collateral value falls.

Legal authority

In 2001, U.S. Department of the Treasury economist Kurt Schuler found that the issuance of private banknotes is technically legal in the United States. The tax on state-chartered notes, which effectively prohibited the practice, was repealed in 1976. The laws preventing issuance by nationally chartered banks were repealed in 1994, although a semi-annual tax (totaling 1% per year on the value of notes in circulation) would still apply.

If Schuler is correct, then no law or regulation currently restricts the issuance of private banknotes. A white paper from the Clearing House, a bank association, supports this view, noting that stablecoin-related activities “clearly fall within the existing legal authority of banks.” Further, they write, “no legislative change is required to permit banks to issue digitized deposits” in the form of stablecoins. In 2012, I calculated that U.S. banks could earn billions in profits by issuing their own private notes.

For regulatory purposes, redeemable stablecoins would presumably be treated like banknotes or other non-interest-bearing liabilities. They would not be subject to reserve requirements, which apply only to transaction accounts and were lowered to zero in 2020. Prior to 1994, national banknotes were required to be fully collateralized, but that requirement is no longer in effect.

See also: Circle CEO: US Stablecoin Legislation Is ‘Lowest-Hanging Fruit’

Bank-issued stablecoins would also not be subject to insurance from the Federal Deposit Insurance Corporation (FDIC), which applies only to specific types of accounts, such as checking and savings accounts.

State-chartered banks would likely enjoy more regulatory flexibility in issuing stablecoins. Some states, such as New York, have put off the crypto industry with restrictive regulatory regimes, but others including Wyoming have welcomed cryptocurrencies, and might provide a regulatory environment that is more amenable to stablecoins.

Another question is whether anti-money laundering (AML) laws, such as know-your-customer (KYC) requirements, would apply to bank-issued stablecoins. Some might argue that holding a stablecoin is like having a bank deposit, but a more apt comparison is to personal or cashier’s checks, which require only the check writer to have an account at the issuing bank. Signed checks can be passed on to other users who eventually redeem them. AML and KYC laws do not apply to intermediate holders of the check, only the check writer and possibly the redeemer. This standard should